September 24th, 2006 2:39 am
Will I Go to Jail for Mortgage Fraud?
[Photo by !borghetti used with permission.]
In this blog entry I’m explaining all the potentially “shady” loan practices over the last 12 months as a real estate investor.
I am trying to figure out the following:
- Did I commit mortgage fraud?
- To what extent?
- What are the consequences?
- Will I go to jail?
- Should I take this blog down immediately, run to Russia and change my name?
I will be researching the above questions in the next few days. I will be reading articles online and will be talking to attorneys, lenders and fraud specialists. If you have any pertinent links, articles, advice or professional referrals, please leave a comment or email me. Thanks to everybody who commented on previous articles. The advice has been helpful.
First a little background…
A Year of Buying Houses:
In 2005 I bought a home study course on making money in Real Estate. I also went to a few weekend seminars - “bootcamps” to learn more on the topic. [I am not going to mention names. I do not blame the real estate education or the gurus. The education received was very good quality and above-board as far as I can tell.]
Armed with basic knowledge, I went out and bought 8 houses between October 2005 and May 2005, loosely in this order:
- Calla Way, Sacramento CA - 100% financed, got cash back at close and traded for Burdett Way in January
- Burdett Way, Sacramento CA - 100% financed, fixed and lease optioned, lease option didn’t work out, tenants are moving out - trying to sell now
- Guadalajara Rd, Rio Rancho NM - lease back to builder for 10 months, lease back is almost over - trying to sell now
- Sonora Ave, Albuquerque NM - 100% financed, got cash back at close, fixed and sold via round robin auction this summer
- Larchmont Dr, Sacramento CA - 100% financed, got cash back at close and started fixing it but ran out of cash - trying to sell now
- Muncy Dr, Modesto CA - 100% financed, got cash back, fixed it - trying to sell now
- W 10250 N, Highland UT - 100% financed, got cash back and just recently sold it on a wrap
- Angleridge Rd, Dallas TX - brought about 30K down and financed rest with hard money loan, fixed and am trying to sell now
The first property Calla Way is what got the whole train started. I got 30K cash back at close which allowed me to pay off the 30K of credit card debt. Most of that debt was the real estate education I mentioned. Some of the debt was from the wedding in 2004.
We were very happy to have that debt paid off and the burden lifted. We have been paying minimum payments of about $600/mo on those credit cards for a long time. In one deal it was all wiped clean! The real estate education and desire to make things happen paid off this time.
The maxed out credit cards were keeping my credit score low. After paying them off my credit score jumped by 50 points to over 660 and I was able to qualify for better loans. The new sense of confidence got me going for more deals.
Here are the details of some of the potentially “shady” aspects of the deals.
1) Cash Back at Close
Out of 8 houses I got cash back at close on 5 of them. The amount of cash ranged between 15 and 50K.
I used the cash for:
- Doing the deals - travel costs, fix up costs, mortgage payments, utilities, etc.
- Living expenses - since I quite my full-time job in January and didn’t have any other income
- Additional RE education - real estate conferences, seminars, home study courses
Unfortunately, due to bad planning, mis-management, lack of construction experience and buying too many houses too quick I ran out of the cash in June. I couldn’t continue to pay the 15K+ holding costs on 6 houses so I stopped making payments.
I was planning on one more cash-back deal to close but that fell through at the last minute. “Borrowing Peter to Pay Paul” strategy came to a halt.
No Shady Appraisals!
As far as I am aware, there was NO appraisal fraud on any of these deals. The appraisal was ordered directly by the lender as far as I know were NOT inflated. I do not know the appraisers and have never communicated with them before and thus have not had any influence over the process. Also, on all deals except for one I did not “juice-up” all of the equity, just enough to pay my costs while I was fixing and reselling. There was some equity left for the back-end.
Is Cash Back At Close Wrong or Illegal?
When I was doing these cash-back deals I got some mixed advice. Many of the experience investors I associated with and learned from didn’t think there is anything wrong. Most Real Estate gurus out there have courses that show you cash-back at close techniques.
Some of the mortgage brokers said that I can’t do cash back through escrow but if it happens directly with the seller then it might be OK. Other mortgage brokers and real estate agents told me its illegal no matter what.
But when it comes down to it… How is getting cash back any different then a builder offering incentives (free upgrades, etc..) to sell their homes quickly? The seller needed a quick way out and the cash-back was the incentive to the buyer (me) to buy their house quickly.
2) Stated Income and Owner Occupied
I bought all the properties using 100% stated income owner-occupied loans. The 100% was usually made up of two loans - 80% first and 20% second.
The only exception is Anglridge. I used a “hard money” 70% loan. I had to actually put some money down on that one.
I am not a mortgage specialist, but as I understand it, stated income means you state (or make up) how much you make. The bank does not ask for pay stubs. They just call the employer to see if you really work there.
If you’re self-employed then they just want to see a letter from your CPA explaining that you have been self employed in the same line of work for at least 2 years.
However, I’m told the bank DOES check to see if the stated income is reasonable. They check the income against an acceptable range of salaries for any given job title. So if I’m flipping burgers in McDonald’s and claim $20K/month, I am NOT getting an approval for that loan. If I am a real estate investor or a business owner and claim $20K/month - that’s very reasonable!
The bank charges higher interest for these loans to cover additional risk. They also require a higher FICO (credit) score. So the lender DOES take an additional risk with these “liar loans” but they balance that risk with higher fees.
Again, I’m not a mortgage specialist, but… as I understand it, an owner-occupied loan means you have the intent to live in it as your primary residence. Owner occupied loans have the best rates and are much easier to qualify for 100% financing.
The alternatives are a) second home loan or b) investment property loan. Second home is like a vacation home and assumes that you will not rent it out and will be living in it part of the time. Investment property is pretty much everything else - buying a property for investment that you will not be living in.
I bought the first house Calla Way in Oct 2005 as owner occupied. I didn’t own any real estate at that time. I owned a condo back in 2002 but sold it in 2003.
I was told I can run it as owner-occupied loan because a) I didn’t have any other houses and b) I would not be able to qualify for 100% financing with my credit score at the time.
I was told that if somebody ever questions it I can say that I “intended” to occupy the property but later changed my mind.
I did have intent. I was thinking that if I buy this house, get the 30K cash back at close and for some reason can’t flip it fast enough, I will have to move into it. It was a little bit far from work and the payment was over our budget but I figured we can float it some how. Maybe rent out a room or two.
However, my primary intent was to buy and re-sell without ever moving into it. Which does NOT mean I didn’t have at least SOME intent to owner-occupy it.
I ran a few other houses as either owner-occupied or second home. That’s because I was buying the houses so fast the credit reporting wasn’t keeping up with my activity. In most cases I would NOT have been able to qualify for “investment property” loan anyway.
So there you have it! Did I commit mortgage fraud??? Am I going to jail???
NOTE: I am NOT blaming anybody who was involved in any of the deals. I was fully aware of what I was doing and take full responsibility. My goal is not to point fingers at any one person, lender, etc. I just want to figure out where I crossed over the line.
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